DoorDash IPO

After being a private company since its founding in 2013, DoorDash filed its IPO prospectus with the SEC on November 13. Once the traditional roadshow wraps up, shares are expected to start trading in mid-December under the DASH ticker.

DoorDash goes into the pile of things I don’t understand, but it’s hunting season in Ohio so I might as well take a shot at a unicorn.

DoorDash is lumped in with most other VC-backed companies that rely on oodles of VC money to fund its losses until it achieves enough “scale” to own the market. Theoretically, these companies can then raise prices or will have enough economies of scale to generate massive profits given the operating leverage provided by their “asset-light” model.

My only issue with most of these ideas, DoorDash among them, is that I don’t believe there is a market large enough for many of them to ever consistently turn a profit simply due to the nature of their business model.

So let’s take a look at DoorDash’s S-1 and its history of shady business practices to understand why I question the long-term prospects of DoorDash.

u/fiveri

Market Size & Economies of Scale for Profitability

While we are the category leader, U.S. consumers on our platform in September 2020 represented less than six percent of the U.S. population as of September 30, 2020, and we believe we are in the early phases of broad market adoption. In 2019, we generated gross order value on our Marketplace, or Marketplace GOV, of $8.0 billion. In the same period, $302.6 billion was spent off-premise at restaurants and other consumer foodservices in the United States.9 Our Marketplace GOV in 2019 represented less than three percent of this off-premise spend, highlighting the large addressable opportunity ahead of us in the food vertical alone. We are also beginning to expand into other verticals beyond food and our ambition is to empower all types of local businesses.

DoorDash S-1

I think the excitement for DoorDash comes from the total addressable market and the fact that the companies operating in this space currently only service a tiny fraction of it. However, there may be a few flaws in their calculation of the TAM:

  1. Fast food drive through business makes up a large part of the $302.6B off-premise food. Going through a fast food drive through is cheap, fast, and easy, which allows the fast food to retain its value proposition.
  2. DoorDash’s business model is primarily limited to fair-sized towns and cities. The only way delivery works for drivers is if they can pick up multiple orders at a time and make multiple deliveries. Without an adequate density of participating restaurants and customers, they’ll never get enough drivers to service the model. I’m thinking of where I grew up in the country. It was a 15-minute drive into a small town. It would have been impossible to get someone to drive out to drop a delivery off even if my parents hadn’t been too frugal to pay the delivery fee plus a tip for something they could do themselves.
  3. One of the key stats from the S-1 is that 6 percent of the US population is already a customer of DoorDash. Given the income inequality in America, while the total off-premise restaurants revenue may be $302.6B, only a small percentage of that spend is by people who don’t care if the cost of whatever gets delivered is 20 or 30 percent higher than if they picked it up themselves. So what percentage is that? My guess is only 20 to 30 percent of the population, which while still a lot, is a far cry from a $302.6B total addressable market.

DoorDash claims a giant addressable market, and even if I have my doubts that it is as large as they hope, it is a sizeable market. After all, there are oodles of people who are willing to trade money for convenience.

But even if there is a giant addressable market, the nature of the business is going to make it difficult to ever consistently generate positive cash flow. To take another graph from DoorDash’s S-1:

In about 2 years DoorDash has gone from 17 percent marketshare to 50 percent marketshare. They’re arguing that if they can be the dominant player, a virtuous cycle will make more restaurants and more drivers want to work with them. What that chart doesn’t show you is that Uber Eats, Grubhub, Postmates, and any other entrant can grab that marketshare back from DoorDash if they’re willing to use investor cash to subsidize losses on either the driver side or the restaurant side. The downside of the asset-light model is that switching costs are low. Since whoever provides the best value proposition wins, the easiest way to provide the best value is by subsidizing it with investor cash.

Massive Revenue Growth / Negative Profits

DoorDash has seen incredible top line growth over the past couple of years. The pandemic probably accelerated that growth, between more people opting for take-out/delivery and more people willing to drive for DoorDash because they need some extra money.

However, that top line growth hasn’t translated to positive net income. One common theme I keep seeing in all these asset-light, VC-backed, “allow everyone to rent out their car/house/labor on an ad-hoc basis” business ideas is that the growth seldom translates to out-sized profitability. Even though the model is asset-light, the cost to maintain plus grow the asset-light business is much more expensive than all the hockey-stick projections take into account.

While the companies aren’t adding rental cars, real estate square footage, or too much other PP&E, customer service, sales, marketing, and public relations expenses never decrease as much as investors anticipate.

DoorDash’s Shady Growth Practices

DoorDash has been in the news repeatedly for “growth hacking” their way to glory. While growth hacking is the cool Silicon Valley term for driving revenue growth or user acquisition/engagement, DoorDash took it a bit beyond ethical boundaries:

  1. Misleading customers on tips. If you’re not familiar, DoorDash got in trouble (and since this is corporate America, by “trouble” I mean a journalist reported on it and the company eventually “promised” they’d change their business practice. There weren’t any actual legal settlements or criminal charges) for taking driver’s tips. Instead of paying the tip from the customer directly to the delivery driver on top of their normal guaranteed minimum payment, they used the tips to subsidize the delivery fee.
  2. Being sued repeatedly for registering phone numbers and creating websites / menus for existing restaurants and then gaming search results to have Google redirect to DoorDash. This practice started as early in 2014 and it looks like they first got sued for the practice in November, 2014 by In-N-Out Burger. Did that cause them to stop? No. They kept doing it again and again and again. Which caused more lawsuits. The issue is that a lot of restaurant food doesn’t do particularly well as take-out food. The restaurants the DoorDash were signing up without permission would get calls from customers complaining that their food was cold, it was delivered late, or there was some other problem that negatively impacted their experience with the restaurant. These problems didn’t matter to DoorDash because they could always sign up the next restaurant without the owner’s permission but it did risk doing permanent brand damage to the restaurant.
  3. Pizza Arbitrage: DoorDash created a delivery option on a pizza joint’s Google listing unbeknownst to the owner. However, when someone ordered delivery through the Google listing they were charged $16 via DoorDash’s portal. DoorDash then turned around to pay the owner of the pizza joint the full $24 for the pizza. The owner eventually found out that DoorDash had purloined his listing and had incorrectly listed prices. So he started ordering pizzas from his own shop through DoorDash and pocketed the $8 difference for every pizza without having to go through the hassle of actually making pizza.
  4. Uber, Lyft, DoorDash, PostMates, and InstaCart spent ~$200 million on California’s ballot issue in 2020 to keep drivers classified as contractors instead of employees. Keeping them classified as contractors allows the gig-economy companies to avoid paying up for sick-leave, health insurance, or a minimum wage. The general rule of thumb is that if you need to spend that much money and effort to keep wages low for your workers then it’s probably not a good deal for the workers. And if the entire idea is for your workers to work a couple hours a week to pick up some extra money, then you can see how the rates they’re getting paid probably aren’t conducive to keeping a happy workforce that’s always there to deliver for you. I.e., the next VC-backed delivery company that is willing to exchange cash and losses to get market share will be more attractive. Now that DoorDash is a going to be a public company it’s a lot harder to say they need to raise equity so they can burn cash so they can maintain market share.

The list above are the ones I remember reading about when they made the news – who knows how many similar practices escaped the public eye.

Red Flags on DoorDash IPO Financials

It is telling that one of the risk factors in their S-1 states “We have identified a material weakness in our internal control over financial reporting and may identify additional material weaknesses in the future or otherwise fail to maintain an effective system of internal controls, which may result in material misstatements of our consolidated financial statements or cause us to fail to meet our periodic reporting obligations” and yet they are able to move forward with an IPO.

But things get restated all the time – GAAP is mostly estimates after all. And DoorDash is a unicorn that’s finally been captured and brought to the public so why worry about 100 percent accurate financial statements and controls?

What I find more interesting in the financials they included in their S-1 is that accruals for the YTD period ending 9/30/20 increased $452 million versus a net loss of ($149) million.

That increase in accruals allowed them to show positive cash flow for the YTD period but it’s odd that they bothered. For fast-growing companies like DoorDash it’s typical to have operating cash flow be significantly less than net income. Theoretically the company is investing in working capital and employees, which is a cash drain during rapid growth. The only plausible reason to stuff accruals that much is to artificially increase DoorDash’s net income for the period. The only reason to do that is to make investors think they’re right on the cusp of having enough scale to turn a profit, which conveniently aligns with when they’re going public…

Should I Short DoorDash?

I am skeptical of DoorDash as something an investor should buy for the long-term. But to be fair to DoorDash, most of what I covered was clearly laid out in the S-1’s risk factors. The issue is that in the current environment one of two things is entirely possible:

  1. My assessment is totally wrong and price goes up; or
  2. My assessment is totally correct and price goes up anyway.

There is a path forward for DoorDash to grow and turn a profit as they expand into other on-demand delivery products and services, but it’s a delicate balance between adequately compensating drivers to make the gig worthwhile, ethically dealing with businesses they are delivering for, and making the whole thing cheap enough for customers to find the convenience a compelling value.

The other way for DoorDash to become wildly valuable is if they can ever replace the drivers with autonomous delivery drones.

Regardless of whether you think I’m right or wrong, and whether this is a long-term buy or short, the current market is weird enough that I’d wait a couple of months after DoorDash’s IPO before taking a position one way or the other.

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